(Bloomberg) — Bill Harnisch is on a roll. Assets in his Peconic Partners hedge fund are ballooning thanks to a near-perfect run of market timing that included shorting last year’s bear market and pivoting long just as the tide turned.
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So when he says the party is over, it’s a view worth considering.
Up 35% this year after jumping 26% in 2022, Peconic is sitting with $1.5 billion in assets and a growing conviction that the tech rally that helped fuel the last leg up has seen its best days. The New York-based fund recently dumped all its shares in Alphabet Inc. and Amazon.com Inc. — names that made up more than 10% of its holdings — and is bracing for a slower slog in stocks after $9 trillion was added to share values in nine months.
“We’ve entered a no man’s land because it hasn’t broken up and it hasn’t broken down,” Harnisch, who started in the financial industry in 1968, said in an interview. “I can’t sit here and tell you I haven’t been surprised at how well the market has done, given that interest rates haven’t come down. But I’m having trouble seeing where the big impetus is for growth going forward.”
With the S&P 500 dancing around 4,500, the high end of his forecast range for the next one to two years, the former Chase Manhattan Bank analyst concedes the market may overshoot to the upside, particularly if optimism over artificial intelligence and an end to Federal Reserve tightening continues to build. But after a 26% rally, he says, the market has yet to prove itself at this altitude, which is still below the high it made in early 2022.
The veteran sees a slew of potential headwinds, from sticky inflation to earnings disappointment and stretched valuations. In his view, the chance for the S&P 500 to retest 3,500, its October low, is not frivolous.
As Harnisch sees it, companies like Alphabet are trading as if AI can revolutionize the way people live and work overnight. But innovations like theirs were around long before Microsoft Corp.’s $10 billion investment in OpenAI, owner of the newly launched AI tool ChatGPT, and even pioneer Alphabet has been proceeding cautiously.
“Everybody jumped when they saw Microsoft was going to take AI seriously — it’s going to change the world, so get a ticket and hop on board.” Harnisch said. “It is real, it’s big, but it’s going to be a long time.”
His caution stands out at a time when bulls are cementing their grip on the market. It’s coming from a manager who is up 60% annually in the three years through June, four times as much as the S&P 500.
To be sure, Harnisch’s view of the market was less than unrestrainedly positive at the start of the year, with predictions the S&P 500 would trade in a range as 2023 unfolded. Now with stocks having pushed to the top of that band, he’s battening down, reining in leverage and diversifying away from tech.
Peconic, which started in 2004, has a dozen people with a focus on trying to figure out which companies will expand faster than the economy in the long run. The picks, the kernel of its portfolios, are usually held for seven to eight years. On the short side, the team builds hedges to offset the risk from the core holdings while looking for mispriced shares.
The team recently added MasTec Inc., a construction company, expanding a selection of industrial holdings that are expected to benefit from growing demand for high-speed internet, clean energy and AI infrastructure, areas where the government plans to boost spending and cut regulatory bottlenecks.
Shares of MasTec gained 25% in the second quarter. Two of the fund’s largest holdings — power-line builder Quanta Services Inc. and Wesco International Inc., a distributor of electrical gear — are up 39% and 42% year-to-date, respectively.
All told, Peconic’s net leverage — a measure of risk appetite that takes into account the long versus short positions — currently sits at 32%. That’s about the midpoint of a three-year range and down from the 2023 peak of 45%.
Now Harnisch is contending with a market that he calls “fully priced.” The S&P 500 is valued at roughly 19 times next year’s forecast profit, an estimate that according to Bloomberg Intelligence sits near $240 a share and represents an 11% increase. While the money manager doesn’t expect an economic recession, a swift rebound in corporate earnings like that appears too optimistic.
Adding pressure on equity multiples is the trajectory of interest rates, which he expects to stay higher for longer because inflation, despite a yearlong downtrend, is likely to remain above the Fed’s target of 2%, underlined by persistent wage pressure and a rebound in oil prices.
That said, stocks have defied gloom warnings all year and stayed buoyant. Since early March, the S&P 500 has managed to avoid a weekly decline of 2%, the longest streak of resilience in almost two years.
Harnisch says his firm will closely monitor second-quarter earnings season, hitting full swing in the coming weeks, for any shift of patterns in everything from consumer spending to wage pressure and growth in China.
“We’re just waiting to see how the news comes,” he said. “Like people say, we’ll watch and see how the cards come out of the deck.”
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